Why Is The S&P 500 Down And Where Is It Heading?

Summary

  • The S&P 500 is no longer overvalued. Its PEG ratio of 1.1x puts it close to historical bear market lows. However, the index remains in a bearish flow.
  • We discuss several levels of interest that investors need to watch closely for the bear trap reversal price action signal. Focus on the market, instead of the news.
  • We could be closer to a bottom than what investors think. The market is a forward-looking mechanism.
  • I do much more than just articles at Ultimate Growth Investing: Members get access to model portfolios, regular updates, a chat room, and more. Learn More »
silhouette form of bull on technical financial graph

monsitj/iStock via Getty Images

Investment Thesis

The closely watched S&P 500 fell into a bear market (20% decline from its previous highs) momentarily last Friday before reducing the losses into Friday's close. However, the SPDR S&P 500 ETF (NYSEARCA:SPY) is still perched precariously at the edge, down 17.3% from its November highs.

But, its more tech-focused Invesco QQQ ETF (QQQ) remains mired in the bear market, down 28.2% from its November highs. With a potential recession looming, and a much weaker consumer outlook, we think it could be challenging for the SPY to "escape" a bear market designation before finding an eventual bottom.

Furthermore, Snap (SNAP) highlighted in an after-hours filing yesterday (May 23) that it needs to lower its Q2 guidance communicated in its recent earnings release. The company cited (edited):

The macroeconomic environment has deteriorated further and faster than anticipated. As a result, we believe it is likely that we will report revenue and adjusted EBITDA below the low end of our Q2 2022 guidance range. - SNAP

That sent shockwaves through the market, including its ad tech peers such as Meta (FB), Amazon (AMZN), Google (GOOGL) (GOOG), Twitter (TWTR), Pinterest (PINS), and The Trade Desk (TTD). Furthermore, we believe it has also triggered massive pre-market selling in the S&P 500 and NASDAQ futures, down 1.3% and 1.98% at writing.

Of course, the mayhem will eventually find a bottom, as the market is forward-looking. We discuss how investors can use price action analysis astutely to watch for a bottom.

Why Has The S&P 500 Dropped?

SPY Top 5 Sector Weightings Weightings %
Technology 26.68%
Healthcare 14.93%
Financials 11.03%
Consumer Discretionary 10.46%
Communication Services 8.94%

Top 5 sectors' weightings. Source: S&P Cap IQ

Sector ETFs YTD performance comps

Sector ETFs YTD performance comps (koyfin)

With the drubbing seen in the market, all the top five sectors in the SPY are in double-digit losses YTD, sans the Healthcare ETF (XLV).

Technology has been in a mess since November, with high-growth taking a significant beating. For example, the ARK Innovation ETF (ARKK) is down 56% YTD as investors bailed out of speculative growth stocks. Moreover, with technology accounting for nearly 27% of the SPY's weightings, it has markedly impacted its YTD performance.

The generals (Apple (AAPL), Amazon, Google, Microsoft (MSFT), Tesla (TSLA), Meta, and NVIDIA (NVDA)) leading the sell-off in the SPY are still digesting their massive gains from 2020-21. Unfortunately, all except one are already mired in bearish momentum, as they lost their crucial support levels.

The continued macro stresses, weaker consumer outlook, rate hikes, and a hawkish Fed have taken their toll. Unfortunately, it also gave the bears the ammo they needed to press prices down further. Therefore, unless the leading stocks in the SPY demonstrate a credible bear trap reversal, the pain could carry on for a while longer.

Where Is The S&P 500 Headed?

SPY price chart

SPY price chart (TradingView)

That's the critical question, isn't it? Several clues in the SPY price chart could unveil a series of critical levels to watch for the potential bear traps. It also helps investors to avoid adding anywhere near identified bull traps. We highlighted the November and recent late March bull traps that we cautioned members of our service to be wary of.

We first cautioned in our service's update on November 30 (edited):

"The main indexes have continued to stay at their recent highs, but we have explained previously that breadth has continued to weaken across many stocks. In addition, high-growth stocks have continued to weaken as well. Our long-term indicators have also weakened."

We also added a further caution on March 29, as the index attempted to rally from its March bottom. We added (edited):

Within two weeks, we have moved quickly off the March bottom and aim to retake the 50-week moving average. The short-term action looks well overbought, and the rush towards the 50-week MA is a little too fast for our preference. So, we will continue to bide our time as we wait for some of the froth and optimism to be digested first. - Ultimate Growth Investing, Daily Market Analysis 29 March 2022

Unfortunately, those two moves in November and late March have proved to be astute bull traps, as seen above. But, the move in March was significant, as it sets the index falling below its critical 50-week moving average and into "negative flow." Investors can use the dominant flow to determine the current bias of the market trend. For instance, when the index is in a positive flow, it tends to stay that way, as seen above. However, when it goes into a negative flow, the bears are also entirely in charge until a bear trap reversal is observed.

Long-term investors in the SPY do not have to worry. Looking back over the last 30 years, the index has been in a secular uptrend. We do not think that trend will change. However, it's helpful to understand price action to determine appropriate levels to add, to layer in your purchases, while avoiding the potential bull traps.

We see the following critical zones as potential bear trap reversal levels. Therefore, investors can use these levels as a yardstick to observe the price action reversal signals.

  • $411 level. The current level that the market is testing. The bulls have been trying to retake this level over the past four weeks. However, the market makers have been forcing late selling and preventing the retaking of the level. We believe the next two to three weeks will be critical to determine whether this level can be sustained as the near-term support level. Otherwise, a move down to the subsequent support level is increasingly likely.
  • $372 level. The likely subsequent support level, down 22.5% from its November highs. It's 6.3% away from yesterday's (May 23) close at writing. Therefore, a potential bear trap reversal from this level is possible if the $411 level doesn't hold. It also coincides with the 50% Fibonacci retracement level.
  • $320 level. It is a critical level for a potential bear trap reversal to play out. It's about 33% below its November highs, which is quite close to the average bear markets decline of 36%. Also, it marks the 61.8% Fibonacci retracement level, a critical level to hold for a deep but healthy retracement.
AAPL price chart

AAPL price chart (TradingView)

MSFT price chart

MSFT price chart (TradingView)

The two leading stocks in the SPY are also at critical levels where they can stage a potential bear trap reversal. Both have fallen into negative flow, which is expected given the bearish market momentum.

AAPL stock has started to stage a potential reversal at the current level, but it's still early to be certain. To be sure, we need to observe the price action more closely over the next two weeks. Investors should also watch the resistance and near-term support levels re-test, as seen above. That should give a good indication of the sustainability of the current support level.

MSFT stock is deeply mired in negative flow. The market has devoured SaaS stocks, and even the SaaS King couldn't escape the bears' clutches. Furthermore, MSFT stock looks less promising than AAPL stock currently. We cannot tell right now whether it can retake its near-term support level or fall further to its next support level, as seen above. Therefore, investors must watch its price action closely over the next few weeks.

If both stocks can exhibit bear trap reversal price action signals around their current support levels, we think it bodes well for the SPY to reverse from its current levels.

Bottomline

The S&P 500 is no longer overvalued, as it last traded at an NTM forward P/E of 16.7x. Moreover, its forward PEG ratio has also normalized to 1.1x, close to the bottom we saw in previous bear markets.

Therefore, we think the market conditions and valuations are quite constructive for a reversal from the current levels. What the SPY needs to give investors moving forward is a bear trap reversal signal that could then validate the end of the downtrend or negative flow.

Therefore, we urge investors to pay close attention to the levels highlighted and wait patiently for the bear trap reversal signals to play out.

Do you want to buy only at the right entry points for your growth stocks?

We help you to pick lower-risk entry points, ensuring you are able to capitalize on them with a higher probability of success and profit on their next wave up. Your membership also includes:

  • 24/7 access to our model portfolios

  • Daily Tactical Market Analysis to sharpen your market awareness and avoid the emotional rollercoaster

  • Access to all our top stocks and earnings ideas

  • Access to all our charts with specific entry points

  • Real-time chatroom support

  • Real-time buy/sell/hedge alerts

Sign up now for a Risk-Free 14-Day free trial!

This article was written by

JR Research profile picture
14.36K Followers
Sifting through the ultimate growth stocks for your portfolio

I'm Jere Wang, the principal analyst and founder of JR Research and Ultimate Growth Investing Marketplace service.

Ultimate Growth Investing is curated to help investors achieve 5x to 10x returns over the next five years. 

As a growth-oriented investor myself, I am aware of the challenges investors face in their quest to find the right growth stocks. There are so many high-potential companies in the market. As these are emerging leaders, the due diligence required is even more crucial. All growth investors want multi-bagger returns. Unfortunately, most could hardly find the time to do the necessary work. 

Therefore, our service is here to help these investors. We are full-time investors and traders. We work day-in, day-out to find the best opportunities for ourselves. Now, we are extending those opportunities to these investors through the service. 

If you also prefer someone to do all the hard work for you, I invite you to try out our service. 

Subscribe right now because you get to try out the service for 14 days FREE. Seeking Alpha's unconditional guarantee also protects your free trial. 

Your billing only starts after the free trial. So there's absolutely no risk at all for you to subscribe. Upon subscription, you will have access to all of our investing resources. You will also have access to our Growth Portfolio.

Come and join our community of investors as we navigate the ups and down of the market together. All our best ideas are shared only with our community in the service. Hence, you will not be able to find them on the free site. 

If you have any questions, feel free to send me a direct message. I'm here to help. 

I look forward to connecting with you in Ultimate Growth Investing soon!


More About Me:

I was already a full-time investor and trader before I joined Seeking Alpha as a contributor. I enjoy sharing my experience, knowledge, and mistakes with fellow investors who don't have time to look at the market. It is not a part-time job that I do on the side. I depend on what I do for a living. I take these responsibilities very seriously.

I was previously an Executive Director with a global financial services corporation. I graduated with an Economics Degree from National University of Singapore [NUS]. NUS is Asia's #1 university according to Quacquarelli Symonds [QS] annual higher education ranking. It also held the #11 position in QS World University Rankings 2022.

I'm also a Commissioned Officer (Reservist) with the Singapore Armed Forces. I'm the Battalion Second-in-command of an Armored Regiment. I currently hold the rank of Major.

I love spending time researching high-quality growth companies. That also includes investing time analyzing their price action. In addition, it has allowed me to develop a clear understanding of how institutional investors play their game.

Our best research ideas in the service are highly actionable. We own our best ideas and have skin in the game. Our ideas are not just designed to be a good read. Therefore you wouldn't get abstract theories or concepts from us. You will only get timely and actionable ideas. These are also high probability and workable set-ups with lower-risk entry points. 

My LinkedIn: https://www.linkedin.com/in/jjere/







Follow

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Recommended For You

Comments (25)

To ensure this doesn’t happen in the future, please enable Javascript and cookies in your browser.
Is this happening to you frequently? Please report it on our feedback forum.
If you have an ad-blocker enabled you may be blocked from proceeding. Please disable your ad-blocker and refresh.